I have been sitting on this story for a while, waiting to see if anything actually happens and now it appears that it will amount to something – so here goes. A few months ago, Russian construction entrepreneur and minigarch Valery Morozov started issuing public statements to Russian and UK media outlets, stating that a high-ranking Kremlin official had extorted $6.3 million in bribes from him. The bribes were demanded in exchange for a lucrative construction contract in Sochi for the 2014 Winter Olympics.

Morozov’s claims can be summarized as such: in 2005, his firm designed a “special presidential zone” in the Kremlin Palace. Everything went well, except the Kremlin didn’t pay Morozov’s firm. Morozov said he planned on going to the prosecutor’s office until “they” recommended that he wait for another contract in which his damages would be restored. Fast forward to 2009, when Morozov’s (74% ownership) company – OAO “Moskonversprom” (ОАО “Москонверспром”) – won a tender to to build the “Primorskiy” health spa in Sochi, a 700-room luxury residential complex on the Black Sea, which will house state officials during the 2014 Winter Olympics. An official in the Presidential Administration – Vladimir Leshchevsky, Deputy Head of the Office of Capital Construction – was on vacation during the tender and was furious to learn that Morozov’s company had won upon his return. Leshchevsky approached Morozov and allegedly said, “Of course you know that I was against the tender being given to your company…I support ‘Putivi’ [Путиви].” Morozov cited rumors that Putivi – a Yugoslav company – was controlled by Leshchevsky and his wife (note: I find nothing on Putivi in the gov tender database). Leshchevsky at first recommended giving the contract to Putivi and making Mosokonversprom a subcontractor, to which Morozov refused. Leshchevsky finally gave in, but only on the condition that Morozov pay a 12% kickback on the total value of the project (i.e., 12% of 1.5 billion RUR or $49.25 million = $6 million). But of course – there were problems, including the imposition of subcontractors from the former Yugoslavia affiliated with Leshchevsky and another official, Sergei Smirnov.

Morozov filed a complaint with investigators at the Economic Security Department of the Interior Ministry. The investigators even set up a sting operation where Morozov wore a wire and paid Leshchevsky his kickback, but then informed Morozov the next day that they would not pursue his case and that the evidence had gone missing. So Morozov – like many a -garch before him – Morozov fled to the UK and unleashed the dogs. Leshchevsky immediately responded with a statement accusing Morozov, Kommersant, and Sunday Times of slander. The Prosecutor’s General office shortly announced it would initiate an inquiry, but I got the feeling that this would be a Daimler-style inquiry with no results.

Apparently, I was wrong – on July 20th, Pres. Medvedev publicly ordered Prosecutor General Yury Chaika to investigate the Morozov affair – after the Prosecutor General had announced its investigation. How publicly did Medvedev do this? He sent his handwritten order to Novaya Gazeta(pictured right), which had published the story with Morozov’s most detailed allegations. Indeed, Medvedev wrote the order on a printout of the very story from Novaya Gazeta! Medvedev’s order to Chaika: “Investigate and report.” Three weeks later, Russian media reported that Leshchevsky would be charged under Article 290 of the Russian Criminal Code (“Receipt of a Bribe”).

What’s the takeaway of all this? Here are, in my humble opinion, the salient points:

Power to the Press – for all the talk about Russia not having a ‘free press’ (mostly in reference to television), the Russian print and online media are growing in influence, especially with the liberal technocrats that surround Medvedev. In this way, Morozov – whether his complaints have merit or not – chose the right strategy in pursuing his media strategy. Foreign firms may choose to follow suit in the future, though maybe perhaps in more indirect ways.

Medvedev Walks the Walk – say what you may about Medvedev’s feeble attempts at reforming Russia’s corrupt bureaucracy, but the guy does genuinely care about this issue, or at least genuinely wants to be seen as genuinely caring about the issue.

Weakness of the Power Vertical System – Medvedev’s silly handwritten order is consistent with the Putinist style of governance, where one man must literally involve himself in every issue before anything is done. I know this is how many “high-profile” issues were resolved during Putin’s presidency and now it appears to continue under Medvedev’s presidency. I assume or at least home Medvedev realizes that it is this system itself that fuels corruption, since ne’er-do-well officials appear to be at play when the cat is away.

Poor Message to Foreign Investors – overall, this sends a very bad signal to foreign investors, who lack the local knowledge and contacts of the Morozov’s of the world. How would a Western construction firm respond to the same situation? With the prospect of anti-corruption enforcement for overseas conduct looming back home, many companies might just avoid such project or investment in Russia altogether based on stories like this.

Olympics of Bribery – the 2014 Winter Olympics were supposed to be Russia’s chance to show the world that it was “back” – that it could professionally host an international event without incident or scandal. This scandal – a full 4 years out – is a bad omen.

The Wrong Krysha? – in Russia, an individual or business’ protection from hostile parties is known as his krysha, Russian for roof. It’s not clear who Morozov’s krysha was, but it is worth pointing out that the minority owner of his business is the Moscow government, which suggests he is in Luzhkov’s circle. Thus, this whole episode may be best understood in the context of the growing battle between the Kremlin and Luzhkov – i.e., Leshchevsky saw a weakness in Morozov and took advantage of it.

Fantastic post, Jesse. I saw the news-break about Medvedev’s hand-written order to investigate this matter, but I hadn’t read a smart, concise breakdown of the story until now. Thanks very much!

A question: real estate might be an industry too sullied by corruption and krysha rackets to attract much Western investment, but what about less vulnerable markets? Surely, somebody is going to sneak in here and make a killing? Advertising? Broadcasting rights? There must be other channels here for ‘modernization’ successes, no?

Also, I just had a quick consult with Dr. Google, who told me that “Austrian construction company Strabag may win a 500 million euro ($646 million) contract in August to build the Olympic village for the Sochi 2014 Winter Olympics.” Even if they lose, this would suggest that Johnny Dollar and Sally Euro aren’t quite running for the hills just yet.

Any chance that Russian entrepreneurs are just more at risk for extortion than moneybag-foreigners?

Construction may be particularly prone to corruption also because of the use of subcontractors – which was clearly an issue here. What services are they providing – are inflated charges just a method to generate black cash for kickbacks? This is especially the case with ‘high-profile’ state projects, where the willingness to just throw money at a particular construction makes corrupt temptations irresistible. Esquire Россия famously covered this earlier this summer, when they found that a road in Sochi could be paved with foie gras for the same price (http://esquire.ru/sochi-road).

As for extortion risks, I think it is reasonable to assume that the corruption risks are all companies involved, whether it be at a high level like this or just the local chinovnik demanding tribute in exchange for that last license you need to begin construction. Russian entrepreneurs may face additional risks based on the wrong affiliations, but most foreign companies will hire Russian subcontractors who may bring along the same risks.

Great piece, Jesse, but would just like to note that said Sochi road goes through 20km of tunnels and has a parallel railway. When taking this into account, $7.6bn still sounds far too much, but not by orders of magnitude.

What I’d love to see is your take on Skolkovo. The Silicon Valley Russians I know think it is everything from a much-needed, it’s-here-at-last! modernization initiative, to a 100% corrupt slush fund.

@Sublime Oblivion – good point re: the road. But I think the budget has been revised upwards on more than one occasion and I’m not sure whether this figure covers the parallel railway. I would also point out that Bolivia recently finished constructing the La Paz-Coroico highway, which is 39 miles and is meant to bypass the famous “Death Road.” I’ve been on the highway and it’s very nice and modern and is an engineering marvel since it is carved out of sheer cliff. I haven’t been able to find the exact price, but I guarantee you it didn’t cost anywhere close to $7.6 billion (almost half of Bolivia’s GDP).

As for Skolkovo, well I’ll have to give the same answer I gave to AGT elsewhere – this will be covered in a series of upcoming posts. Generally, I am fascinated by the very real and lively discussion over innovation and modernization going on in Russia. The idea of centralizing ‘innovation’ into a single place is a distinctly Russian approach. It reminds me of the story about Peter the Great who, while on his Western travels, met Isaac Newton. Newton was studying light/colors with prisms at the time. When Peter saw the prism he said to Newton, “You have captured light. I want to buy it from you.”

Excellent and interesting post. I have one minor disagreement, or perhaps it’s just a matter of seeing something another way, but I took Mr. Medvedev’s somewhat dramatic handwritten order as a signal that he expects immediate results (no time for all the diplomatic niceties) and does not wish to allow the possibility that the message will be muted by its passage through many hands. In the military, for example, receiving a message directly from Command rather than having it trickle down through management communicates an imperative that causes the bowels of subalterns to loosen in fear.

I completely agree that Mr. Medvedev appears sincere in his desire for reform, and is not afraid to take a few risks to get there. Even if he does have Mr. Putin’s muscle behind him, I’m beginning to admire him in his own right. The frantic baying of the Russophobes that he’s a weak clone with no mind of his own only confirms for me that he must be sincerely working for Russia – they normally tend toward fondness for anyone who’s a truly greedy screwup likely to wreck the country.

I’m hoping for Sochi 2014 to be a rousing success, for Russian pride if for no other reason, as I’ll likely not be able to attend in person. But this and other well-known problems are going to have to be addressed if Russia is to come close to fulfilling its promise.